Pound to dollar: Why is sterling so weak?

Currency tumbles again after Bank of England warned it is ending support package for pension funds on 14 October

The latest drop in the pound came on 11 October after Andrew Bailey, the Bank of England governor, confirmed that he would on Friday end an emergency support package to prevent some pension funds from collapsing.

Britain’s currency fell sharply against the dollar, slumping a full cent to below $1.10, following the governor’s statement saying the £65bn would be wrapped up at the end of the week.

But what does the devaluation of the pound mean for the economy? Read the full details below:

Why has the pound fallen to a record low?

The financial markets have effectively taken a look at the chancellor’s new economic plan and decided they don’t like it.

International currency traders have been selling off sterling in favour of the traditionally more robust US dollar.

Typically traders often buy into the dollar, due to its strength, during times of economic strife.

The drop on Monday morning happened in the Asian markets, which have not been open for trading over the weekend. This is their first reaction to Mr Kwarteng’s announcement of £45bn of tax cuts, which he made in the emergency mini-Budget on Friday.

The chancellor unveiled his mini Budget on Friday (via REUTERS)

The fall is also a reaction to comments that Mr Kwarteng made on the Sunday politics shows over the weekend.

The chancellor said the he would look at cutting taxes even futher, indicating his Friday announcement was just the beginning.

“We’ve only been here 19 days,” he said. “I want to see, over the next year, people retain more of their income because I believe that it’s the British people that are going to drive this economy.”

Why are traders worried?

Currency traders are worried that the tax cuts announced by Mr Kwarteng are not fully funded, Rabobank’s Jane Foley said.

“That will result in a large amount of debt at a time when the Bank of England is going to be selling some of its holdings of UK government debt,” she added.

Economists, such as former Bank of England monetary policy committee member Adam Posen, have warned that further Bank of England intervention might now be needed, which has placed further pressure on the pound.

‘Sterling looks like an emerging market currency’, analyst Naeem Aslam said (REUTERS)

“Sterling is getting absolutely hammered. Investors are searching out a response from the Bank of England. They’re saying this is not sustainable,” Chris Weston, head of research at foreign exchange broker Pepperstone, said.

Naeem Aslam, chief market analyst at Avatrade, said the further fall in the pound meant “traders have started things exactly where they left off on Friday”.

“Sterling looks like an emerging market currency, especially when you look at the price of the British Pound a few months ago and compare it to where it is now,” he added.

What happens when the pound falls against the dollar?

The falling pound will hike up the price of imported goods, such as energy, food and clothing. This will worsen the cost-of-living crisis and mean increased inflation.

Samuel Tombs, an expert at Pantheon Economics, said inflation is likely to increase by around 0.5 percentage points in 2024 because of recent falls in the pound.

City figures are calling on the Bank of England to intervene (AFP via Getty Images)

Paul Dales, of Capital Economics, said that the Bank of England should step in and implement a “large and immediate” interest rate hike of at least 100 basis points to 3.25 per cent to stop the pound from falling further.

How will it impact household spending?

Energy bills are one of the things that are likely to increase as the pound falls – the price of all of the gas that the UK uses is based on the dollar, even if the gas is produced in the UK.

Similarly, the fact that oil prices are based on the dollar means that petrol could be more expensive for UK drivers as it costs more to be imported by fuel companies.

Rising inflation will also mean that the weekly shop will become more expensive and it will also be more expensive to get a mortgage.

What does this mean for my holiday?

The collapse in sterling since the chancellor’s mini-Budget on Friday is already hitting travellers hard, The Independent’s travel correspondent Simon Calder writes.

The pound is buying less than a euro or dollar at international bureaux de change, meaning it has now become more expensive to go on holiday abroad.

Just before 8am on Monday morning, the Change Group office at London St Pancras International was selling €100 for £108.84 – valuing the pound at less than 92 euro cents.

The station is the hub for Eurostar trains to Paris, Lille, Brussels and Amsterdam.

It will now cost holiday makers more to go abroad due to a weaker pound (AFP via Getty Images)

What does this mean for UK government borrowing?

The fall in the pound has just made the cost of UK government borrowing a lot higher, at exactly a time when the government is looking to fund its policies through debt.

The yield, or interest rate, on UK two-year, five-year and ten-year gilts all surged dramatically on Monday, The Guardian reported.

Yields measure the interest rate on the bond, so when they jump this means that the cost of borrowing has just got a lot more expensive.

The two-year gilt rose by 0.37 percentage points at the start of trading to 4.365 per cent, the highest level since September 2008.